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Monthly Archives: November 2017

I’ve not been making predictions for a long time. Let’s play with Bitcoin!

Mail Order Blow

Blockchain technology may end up replacing stock exchanges — brokers running a peer-to-peer permissioned ledger — in a few years but Bitcoin the prototype may only see limited use.

It is useless as a currency for legal businesses: it is too volatile, too hard to use unless you use a third-party wallet that removes the benefits of peer-to-peer while keeping the costs, and transaction fees are too expensive at the moment. Cherry on the cake, the irreversibility of transactions gives too much power to merchants to rip off buyers: the dominant business model is to set up a fake shop that takes payments and never delivers anything.

It has found a niche on the dark web, and either Bitcoin or a clone are indeed the best way to pay for mail order cocaine or grey market meds. The idea that it could have an investment or legal retail use is actually a part of what makes it usable here: if mail order cocaine was the only use, legal exchanges that allow to buy Bitcoin with a credit card would be banned. Thing is Bitcoin leaves lots of traces so at some point it may lose market share for dark market use to more privacy oriented crypto-coin like Monero or Zcash.

Tulips Galore

So, it’s now clear the current trajectory of the price is due to speculative “investment”.

It has multiple strands reinforcing each other: speculation on Bitcoin itself, speculation on crypto-currencies in general, and now the ICO (Initial Coin Offering) craze, which effectively is a form of regulatory arbitrage. It’s like issuing securities or bonds without regulation, and sometimes anonymously. Most ICOs are likely illegal under reasonable interpretations of current law, and the only reason it is still going is because authorities are slow at enforcing something which looks superficially novel. It’s also very easy to execute fraud, and as in any bubbly environment easy to hide it while everything is going up. So it’s only a question of time before fraud and regulators kill the scene.

When, I know not. The bonus ball here is the first stage of the crypto-token scene implosion should mean people run for the exit by first selling their failing tokens for Bitcoin. A similar run-to-safety can happen in the regular alt-coin world. So in the first stage of the end of the bubble, Bitcoin should go up further and faster, as it will become “harder to get” for a while, until at a later stage people try to exit Bitcoin itself.

Tethered Away

A separate phenomenon is the alleged fraud with pegged crypto-currencies. It’s been better covered elsewhere, but in a nutshell here’s how it works:

Whenever some kid opens a legal fiat/crypto exchange, what do they do? They register a company and get a regular corporate bank account that clients use to deposit and withdraw regular currencies. After a while the exchange is a little bit successful. The cash flow through that account is much bigger and weirder than a regular small business’ account and the bank notices. Or it notices when some illegal wire transfer is called back and they see it’s gone down a crypto black hole. Then the exchange loses their banking relationship. They can play a cat and mouse game for a little while, repeating the same process with new banks or new entities, but here the end game has only two options: stop allowing fiat in and out of the exchange (become crypto-only) or become like a bank (doing full due diligence on clients and taking fraud risk).

Many exchanges took the former option, using a crypto-currency pegged to fiat to keep allowing trading fiat/crypto prices (pairs like BTC/USD). Pegged crypto-coins work by breaking the peer-to-peer model and having a party (or a group acting in concert) in control managing the currency by issuing new coins or withdrawing from the supply to keep the pegged, like currency boards do in the old-school world (e.g. how the Danish Crown or Hong Kong Dollar keep their respective euro and dollar pegs).

Of course, in a bubble nobody is particularly interested if the peg is backed by sufficient hard currency funds to be able to support the peg should there be a flood of people selling (redeeming) the pegged token. In that case the controlling party needs to have enough hard currency to support withdrawal. Capping the price by issuing more coins is trivial. If Bitcoin collapses, the risk of a mass exit from pegged coins is greater, so it’s in the interest of the pegged coin owner to do “whatever it takes” to support not only the peg but also the bitcoin price. They can do that by printing more of their coin and using it to buy Bitcoin. It also works if they do it on a crypto-to-crypto exchange — good idea to have one as part of the project — because under arbitrage rule prices can’t differ too much between exchanges, and price pressure from BTC/Pegged-to-USD will flow to BTC/USD on above-board exchanges which still allow withdrawals. Controlling the BTC price to the upside is also fun and a great way to make some (paper) profits on the way.

The end game is clear here: at some point there will be an outflow that’s too big to control, trust will be lost in the pegged coin(s), which will kill crypto-to-crypto exchanges. Without support the BTC price balloon will deflate, creating its own stampede.

Money Shot

So, let’s put numbers on the prediction: the Bitcoin price will be below $1000 (for at least a week) at some point before January 1, 2020.

Snoozebox delisted today, killed by the debt burden for their hard-to-place posh container hotel rooms. I don’t think there’s much to learn here, it was a recovery play, which would have likely paid off well (it was bought at a distressed price) had it survived. Fair enough bet, you can’t win them all.

A similar bet was Surgical Innovations, which is in modest profit so far, and not at risk of insolvency any more. An error here was to buy too early, on the early profit warnings. Distressed situations tend to get worse before they get better, and listed vehicles tend to take some time to run out of bargain hunters.

Since the last updated I also doubled down on Photonstar Holdings, a perennial disappointer that is cheap as chips by now. Somehow I think the chance they get some commercial traction for the current variation of their strategy is higher than implied in the price. Hopefully this is the last top-up. Now it’s perform or exit.

The holding in quirky Falkland Island Holdings was dumped after a takeover offer for by some entity with Argentine links was rejected on silly nationalist grounds. Too quirky by now. I was also becoming uneasy with the controlling shareholders. Thankfully the price seemed to get stuck around the takeover price even after its rejection.

On the new acquisitions front, we have Tracsis, a long time watchlist favourite that had got a little bit cheaper; Oxford Metrics,SQS Software Quality Systems, while not particularly exciting, seem reasonable matches for our criteria; and Walker Greenbank seems cheap and solid, maybe due to the factory event last year, which was well covered by insurance.

A more special situation is GAME Digital, a UK-centric retailer of video games that has emerged out of bankruptcy. Their strategy to become more event-centric seems promising, and basically comes for free with a cheap retail business with a relatively safe balance sheet.